Lawrence J.
Haas
Read Larry's bio and previous columns
March 17, 2009
The Problem With Budget Deficits
Chinese Prime Minister
Wen Jiabao’s recent demand that Washington guarantee the safety of
China’s investments in U.S. Treasury securities highlights just one
problem that huge federal budget deficits present for the United States.
China is now America’s largest creditor, holding about $1 trillion
in securities – having lent us much of the necessary funding that has
enabled Washington to run huge deficits for much of the last decade.
The federal government
ran a $459 billion deficit last year – its largest ever in raw dollars –
and that figure will rise to about $1.5 trillion this year. The latter
would represent 10 percent of the Gross Domestic Product, the largest
federal deficit as a share of GDP except during World Wars I and II and
the Civil War.
Even after the
temporary spending increases and tax cuts of the recent economic
stimulus law expire, the deficit would settle at an unhealthy 4 percent
of GDP for the next decade and rise thereafter due largely to soaring
growth in the two main federal health care programs – Medicare and
Medicaid.
In Washington, everyone
bemoans deficits, but few want to take the politically tough steps to
address them. See how lawmakers of both parties complain that President
Obama’s budget would not reduce deficits enough while, at the same time,
they criticize the tax increases and spending cuts that he proposes to
address them.
But, make no mistake –
deficits matter. They reduce our economic flexibility, sap our economic
strength and leave us vulnerable to economic calamity. For our economic
future, Washington should address them.
The problem has at
least three dimensions:
The global problem: We borrow to finance our deficits and, increasingly, we
must look abroad for lenders. With its huge holdings of U.S. securities,
China now has significant power to shape our economic future.
Unhappy with U.S.
foreign policy or merely hoping to diversity its investments, China’s
government could slow its purchases of our debt or even dump some of its
holdings, forcing the United States to raise its interest rates – the
rate of return on U.S. Treasuries – to attract other investors.
Were China to “dump”
its dollars precipitously, other investors might follow, causing a “run
on the dollar” that would cause inflation to soar, forcing U.S.
policymakers to boost interest rates significantly enough that the move
might choke off any economic growth that the country was experiencing.
To be sure, China may
have legitimate concerns about its U.S. investment. Our government is
borrowing huge sums, which threatens rising inflation that would reduce
the value of China’s dollar holdings. That’s among the concerns behind
Wen’s call for Washington to “guarantee the safety” of China’s
investments.
Having said that,
issues of economics are not far from those of geopolitics. Do you wonder
why Chinese ships felt free to challenge a U.S. navy vessel in Asian
waters recently, almost provoking a military confrontation? Our economic
dependence on China might have something to do with it.
The economic problem: Nations are like farmers. They can plant their seeds today
and reap the benefits during a future harvest, or they can consume all
that they have today and ignore the future.
Of late, the United
States has resembled an irresponsible farmer. Until very recently,
American families on average have been saving almost nothing, while the
federal government has gone into deep debt.
With little net savings
across society, America has had to attract foreign capital for
investments in plant and equipment that boost productivity and, with it,
living standards. But if investment comes from abroad, some of the
economic benefit flows back overseas, diminishing the return for the
United States.
The budget problem: The greater our budget deficits, the greater our total
debt. The government makes interest payments on that debt each year, and
those payments grow as a share of our federal budget when the debt grows
rapidly.
Those payments now
comprise 8 percent of our budget and will rise to around 13 percent by
2019, meaning we would spend 13 cents of every federal dollar to service
old debt, rather than invest in education or other needs.
Worse, rising debt
threatens a “debt explosion,” in which the debt grows fast enough that
interest payments soar as a share of the budget, leaving far less room
for all the things we want government to do.
So, deficits matter.
If you agree, you might
want to tell your local lawmaker. Congress is more determined to protect
you from tax increases and spending cuts than to ensure the nation’s
economic health for our children.
© 2009
North Star Writers Group. May not be republished without permission.
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